Asia Bond Monitor June 2018 This publication reviews recent developments in East Asian local currency bond markets along with the outlook, risks, and policy options. It covers the 10 members of the Association of Southeast Asian Nations and the People’s Republic of China; Hong Kong, China; and the Republic of Korea. About the Asian Development Bank ADB’s vision is an Asia and Pacific region free of poverty. Its mission is to help its developing member countries reduce poverty and improve the quality of life of their people. Despite the region’s many successes, it remains home to a large share of the world’s poor. ADB is committed to reducing poverty through inclusive economic growth, environmentally sustainable growth, and regional integration. Based in Manila, ADB is owned by 67 members, including 48 from the region. Its main instruments for helping its developing member countries are policy dialogue, loans, equity investments, guarantees, grants, and technical assistance. ASIA BOND MONITOR JUNE 2018 AsiAn Development BAnk 6 ADB Avenue, Mandaluyong City 1550 Metro Manila, Philippines ASIAN DEVELOPMENT BANK www.adb.org The Asia Bond Monitor (ABM) is part of the Asian Bond How to reach us: Markets Initiative, an ASEAN+3 initiative supported by Asian Development Bank the Asian Development Bank. This report is part of the Economic Research and Regional Cooperation implementation of a technical assistance project funded  Department by the Investment Climate Facilitation Fund of the 6 ADB Avenue, Mandaluyong City Government of Japan under the Regional Cooperation 1550 Metro Manila, Philippines and Integration Financing Partnership Facility. 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Contributions from Cynthia Castillejos-Petalcorin of the Economic Research and Regional Cooperation Department, and Suk Hyun of Sogang University are gratefully acknowledged. ASIA BOND MONITOR JUNE 2018 ASIAN DEVELOPMENT BANK Creative Commons Attribution 3.0 IGO license (CC BY 3.0 IGO) © 2018 Asian Development Bank 6 ADB Avenue, Mandaluyong City, 1550 Metro Manila, Philippines Tel +63 2 632 4444; Fax +63 2 636 2444 www.adb.org Some rights reserved. Published in 2018. Printed in the Philippines. ISBN 978-92-9261-188-0 (print), 978-92-9261-189-7 (electronic) ISSN 2219-1518 (print), 2219-1526 (electronic) Publication Stock No. TCS189395-2 DOI: http://dx.doi.org/10.22617/TCS189395-2 The views expressed in this publication are those of the authors and do not necessarily reflect the views and policies of the Asian Development Bank (ADB) or its Board of Governors or the governments they represent. 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Top row: Singapore’s skyline at night. Bottom row, from left: Snapshot of financial market movements; Coins and bills from the different economies in emerging East Asia. Contents Emerging East Asian Local Currency Bond Markets: A Regional Update Highlights �������������������������������������������������������������������������������������������������������������������������������������������� vi Executive Summary �������������������������������������������������������������������������������������������������������������������������� vii Introduction: Yield Curves Steepen in Emerging East Asia ��������������������������������������������������������� 1 Bond Market Developments in the First Quarter of 2018  ��������������������������������������������������������� 16 Policy and Regulatory Developments  �������������������������������������������������������������������������������������������� 37 The Role of Greenness Indicators in Green Bond Market Development:  An Empirical Analysis  ������������������������������������������������������������������������������������������������������������������� 40 Market Summaries  People’s Republic of China  ������������������������������������������������������������������������������������������������������������������� 52  Hong Kong, China  ���������������������������������������������������������������������������������������������������������������������������������� 58  Indonesia  ��������������������������������������������������������������������������������������������������������������������������������������  62  Republic of Korea  ������������������������������������������������������������������������������������������������������������������������  68  Malaysia  �����������������������������������������������������������������������������������������������������������������������������������������  74  Philippines  ������������������������������������������������������������������������������������������������������������������������������������ 80  Singapore ��������������������������������������������������������������������������������������������������������������������������������������� 86  Thailand  ���������������������������������������������������������������������������������������������������������������������������������������� 90  Viet Nam  ��������������������������������������������������������������������������������������������������������������������������������������� 95 Emerging East ADsiaRn ALocFalT Cu-rrUenNcy BDonEd RMa rEkeMts: AB RAegRionGal UOpdate v Emerging East Asian Local Currency Bond Markets: A Regional Update Highlights Key Trends Risks to the Bond Market • Yields in emerging East Asia trended upward between • The ongoing US monetary policy normalization could 1 March and 31 May amid global economic expansion pose a risk to the region’s financial stability by leading and tightening United States (US) monetary policy. to tighter monetary conditions and increased financial The main exception was the People’s Republic of stress. Indonesia raised its policy rates twice in May, China (PRC), where 2-year and 10-year yields fell and India followed suit in early June. after the People’s Bank of China reduced the reserve • The buildup of corporate and household debt in some requirement ratio for banks. Asian economies during the low-interest-rate era may • The global economic outlook remains positive, exacerbate this risk. with solid growth in both advanced and developing • Another risk is currency turmoil in emerging markets, economies. especially evident in Argentina and (to a lesser degree) • Given the improved outlook of the US economy Turkey. However, the region is well equipped to and the Federal Reserve’s ongoing monetary policy weather the volatility due to strong fundamentals. normalization, the US dollar continues to strengthen, • An escalation of trade tensions between the US and leading to the depreciation of all emerging East Asian the PRC could adversely affect the global economic currencies, except the Korean won, during the review outlook and financial stability. period. • In emerging East Asia, credit default swap (CDS) Theme Chapter: The Role of Greenness spreads have risen in most markets, partly due to Indicators in Green Bond Market the depreciation of currencies across the region. An Development exception is the Republic of Korea, where the CDS spread fell due to easing geopolitical tensions. • The theme chapter aims to understand the pricing • Equity markets in emerging East Asia also retreated mechanism in the green bond market. It empirically during the review period due to weakness of domestic investigates the existence of a green bond premium, currencies. in the green bond market. The evidence indicates that • Foreign holdings of local currency government bonds overall there is no significant premium on green bonds. in emerging East Asia slightly fell in the first quarter of However, green bonds that have been reviewed by an 2018 in all emerging East Asian markets for which data external reviewer and/or received a Climate Bonds are available, except the PRC. Initiative certification are traded at a lower green • Emerging East Asia’s local currency bond market grew discount. by 1.1% quarter-on-quarter in the first quarter of 2018 • The theme chapter’s findings point to the potential to reach USD12.8 trillion at the end of March. The benefits of having a widely recognized greenness PRC remains the key driver of the region’s bond market measure in the green bond market. Such a measure growth. could not only benefit investors by lowering information costs, but also help issuers of green bonds to broaden their investor base. Therefore, commonly acknowledged definitions and standards of greenness can foster development of the green bond market. Emerging East Asian Local Currency Bond Markets: A Regional Update vii Executive Summary Emerging East Asia’s Local Currency Box 2 is a primer on green bonds. The box discusses the Bond Yields Rise purpose and uses of green bonds, and provides statistics on issuers by type and economy. Emerging East Asia’s local currency (LCY) bond yields As emerging East Asia benefits from the current global rose in all markets, except the People’s Republic of China economic expansion, risks still loom over the horizon. (PRC) and the Republic of Korea, between 1 March and These include (i) financial stresses resulting from 31 May amid continued global economic growth and US policy rate hikes, (ii) a high level of corporate and United States (US) monetary policy tightening.1 household debt in some economies, (iii) rising emerging market currency turmoil as evidenced by Argentina and The US has seen its interest rates rise as the Federal Turkey, and (iv) possible escalation of trade tensions Reserve pursues monetary policy normalization and the between the PRC and the US. domestic economic outlook brightens. In March, the Federal Reserve upgraded its previous growth forecast Emerging East Asia’s Local Currency made in December, with gross domestic product (GDP) Bond Market Posts Minimal Growth expected to grow 2.7% and 2.4% in 2018 and 2019, in the First Quarter of 2018 respectively, compared with 2.5% and 2.1%. As a result, the Federal Reserve increased the federal funds target rate range by 25 basis points (bps) in its 20 March meeting. Emerging East Asia’s LCY bond market continued to grow Minutes from the meeting also raised the prospect of in the first quarter (Q1) of 2018, albeit at a pace of only accelerated rate increases given the strength of the 1.1% quarter-on-quarter (q-o-q), to reach USD12.8 trillion US economy. at the end of March. All markets in the region posted positive q-o-q growth rates in Q1 2018 except Hong Kong, The growth outlook is also positive in the euro area. China. Furthermore, the region’s growth decelerated from In March, the European Central Bank upgraded the 3.1% q-o-q in the fourth quarter of 2017 as bond issuance euro area’s GDP growth for 2017 and 2018 to 2.5% and was lower in Q1 2018 compared with the previous quarter. 2.4%, respectively, from 2.4% and 2.3% in December. However, the outlook in the euro area has been marred The PRC’s LCY bond market, which remains the largest in by rising political uncertainty in Italy. In Japan, the the region with a 71.5% share of total bonds outstanding, economic outlook was also recently upgraded. drove the slower regional growth as its bond market expanded only 0.7% q-o-q in Q1 2018 following robust The political uncertainties in the euro area have led to growth of 4.0% q-o-q in the final quarter of 2017. The widening credit default swap spreads and rising interest PRC’s slow growth was the result of declining issuance rates in a number of euro area economies. In addition, in its government bond market, particularly the issuance strong growth in the US has led to the appreciation of of local government bonds, as its debt-to-swap program the US dollar and a weakening of emerging East Asian nears completion. currencies. The negative sentiment surrounding emerging East Asian currencies has resulted in widening credit The region’s LCY government bond market expanded default swap spreads across the region. 1.3% q-o-q to USD8.5 trillion, comprising 66.9% of the region’s aggregate bonds outstanding. The corporate This issue of the Asia Bond Monitor includes two special bond market was barely changed, inching up 0.5% q-o-q discussion boxes. Box 1 discusses the financial market to USD4.2 trillion. turbulence in Argentina and Turkey, and the potential impacts in emerging Asia. In line with the minimal growth in emerging East Asia’s LCY bond market and faster growth in the region’s 1 Emerging East Asia comprises the People’s Republic of China; Hong Kong, China; Indonesia; the Republic of Korea; Malaysia; the Philippines; Singapore; Thailand; and Viet Nam. viii Executive Summary aggregate economy, the ratio of LCY bonds outstanding such as Indonesia and the Philippines, have subsequently to the region’s GDP slipped to 70.1% at the end of March tightened monetary policy. On the other hand, the PRC from 70.8% at the end of December. The respective ratios reduced reserve requirement ratios in April. of the region’s government bond market and corporate bond market fell to 46.9% and 23.2% from 47.1% and Theme Chapter: The Role of Greenness 23.7%. Indicators in Green Bond Market Development Total LCY bond issuance in emerging East Asia fell for the second consecutive quarter in Q1 2018, dipping Green bonds are fixed income securities that exclusively 10.7% q-o-q to USD1.0 trillion. The continued decline was fund green projects with environmental or climate- driven by the drop in issuance in both the government related benefits. They are a hybrid of financial and and corporate segments of the PRC’s LCY bond market, environmental risk in one financial instrument. Despite which comprises nearly half the regional total. All other rapid expansion in recent years, the green bond market markets in the region, excluding the Philippines, posted is still immature, with a much smaller amount of bonds higher issuance volume in Q1 2018 compared with the outstanding compared with conventional bond markets, previous quarter. as well as a low level of liquidity. The lack of enforcement mechanisms and consistent and widely acknowledged Net Foreign Investment Inflows definitions and standards across economies constrain Slow in the First Quarter of 2018, further development of the green bond market. Turn Negative in April The theme chapter empirically investigates the green The first 4 months of 2018 saw foreign investors gradually bond premium in green bond markets. It analyzes the reducing their exposure to the region’s LCY bond market liquidity-adjusted yield spread of green bonds over their as a result of higher US interest rates (driven by the synthetic conventional counterparts. It further examines Federal Reserve’s ongoing monetary policy normalization) possible determinants that drive the green bond premium. and the improved global economic growth. This study focuses on proxies for greenness and gauges their impacts on green bond pricing. The shares of foreign investor holdings in most markets in the region slipped in Q1 2018. Indonesia saw the region’s Empirical evidence shows that, overall, there is no largest decline, reflecting concerns over its vulnerability to significant green premium on green bonds compared with outflows as almost 40% of its LCY government bonds are their paired conventional bonds. However, green bonds held by foreign investors. Indonesia was followed by Malaysia that have an external reviewer are traded at a discount of and Thailand, which both saw outflows in reaction to about 7 bps compared to green bonds without an external rising US interest rates. The PRC continued to have a small reviewer and green bonds that receive a Climate Bonds portion of its LCY government bond market held by foreign Initiative certification have a green discount of around investors, but this share is on an upward trend. 9 bps. In addition, green bonds denominated in euros are generally traded at lower discount. In Q1 2018, net foreign investment inflows were registered in all market, largely due to the strong inflows in January. This study has policy implications for the benefits In succeeding months, particularly in April when the of a universal greenness measure in the green bond minutes of the US Federal Reserve’s March meeting were market. Such a measure—whether in the form of certain released signaling the possibility of accelerated hikes, standards or labels, independent reviewers, or other most markets in the region recorded net bond outflows. formats—could help reduce the information asymmetry faced by investors. A commonly recognized greenness Local Currency Bond Yields Rise measure would not only benefit investors by lowering in Emerging East Asia information costs, but also is expected to lead to more green issuers and a broadening of the investor base. Government bond yield curves shifted upward for nearly Thus, a well-defined greenness measure can foster all emerging East Asian markets due to continued policy the better functioning and further development of the rate hikes in the US. Some markets in emerging East Asia, green bond market.